MPs report on the financial stability of UK banks

• Report: Maintaining financial stability of UK banks: update on the support schemes
• Public Accounts Committee

The Rt Hon Margaret Hodge MP, Chair of the Committee of Public Accounts, today said:

"The peak of the financial crisis may have passed but taxpayer support for UK banks remains extensive and the risks to the public finance from the banking sector are great. There must be an end to the dependence of the banks on taxpayer support.

 It is of course, encouraging that by December 2010, the level of explicit support had decreased from nearly £1 trillion to £512 billion. The Treasury must continue to work towards the orderly removal of this support which will depend in particular on the success of the sale of the shares in RBS and Lloyd's. The Treasury faces the challenge of balancing the taxpayers' interest on the public investment in the banks, with the wider imperative of maintaining financial stability.

Those banks that have not received capital cash injections from the Government still benefit substantially from an implicit expectation of taxpayer support. Currently, the arrangements available for winding-up failing banks would not be able to cope with the failure of a major bank. There is still no way to avoid the taxpayer having to bear the cost of any such failure.

This committee feels that it is inappropriate for banks dependent on taxpayer support to be generating excessive incomes, unnecessary bonuses or dividends at the expense of exiting public support.

Since our hearing, the Interim Report of the Independent Commission on Banking has been published and it is noteworthy that the Commission's analysis is highly consistent with that of this committee."

Margaret Hodge was speaking as the committee published its 32nd Report of this Session which, on the basis of evidence from the Treasury, examined progress on repaying the taxpayer support and maintenance of financial stability. We are grateful to the Bank of England for its evidence at the first hearing, and we hope the Bank's senior officials will be able to support the committee's future hearings on this and related subjects.

Background

In 2007, following the crisis in the financial markets, the Treasury intervened to protect depositors and stop financial instability spreading.  This included nationalisation and lending to troubled institutions and to the Financial Services Compensation Scheme, the purchase of a large number of shares in RBS and Lloyds, establishing sector-wide schemes to guarantee banks’ debt-funding and protect their assets, and indemnifying the Bank of England against losses for providing temporary liquidity.

The committee's findings

These moves were justified at the time, but the peak of the financial crisis has passed, and banks must not remain dependent on taxpayer support indefinitely. Although the level of explicit support has gone down from nearly £1 trillion to £512 billion, the Treasury still retains the ultimate risk of supporting banks should they again threaten the stability of the overall financial system. The options available to deal with a failing bank are still not able to pass the costs of failure to the shareholders and creditors instead of to the public purse.

Taxpayer support for the banks, both explicit and implicit, provides a subsidy to the banking sector as a whole. Estimates of the size of the implicit subsidy vary - from as high as £100 billion to just below £10 billion in 2009 alone. But regardless of the size, the Bank of England, Treasury, and RBS all agreed that the implicit subsidy as well as the explicit subsidies must be removed. The explicit subsidy includes the fees paid by banks for their use of the Credit Guarantee Scheme which, to date, have been at least £1 billion less than the benefit received by the banks.

These subsidies enable private gains to be made at the expense of public risk. Contracts entered into when state support was put in place have allowed some of these gains to be used to pay bonuses to certain bank staff, and dividends to shareholders, rather than enhancing the financial sustainability of the sector, and this causes us and the wider public much concern.

Although the banks' progress to date on reducing their reliance on the explicit taxpayer support is encouraging, the Treasury must continue to encourage the banks to manage the transition from reliance on the support schemes to private funding in an orderly and smooth way.

Whether or not the taxpayer obtains value for money from exiting from the support depends heavily on a successful sale of the shares in RBS and Lloyds. The value of the shares at the time we took evidence was still some £8.4 billion below the price paid by the taxpayer. The scale of the government shareholding is far greater than in previous share sales and will require extraordinarily careful handling to protect the taxpayers' interest.

When developing its strategy for the sale, the Treasury will need to balance the legitimate desire to maximise proceeds against its other objectives of preserving financial stability and enhancing competition. Considerable regulatory and political uncertainty over the Government’s intentions for the banking sector will remain until the Government has responded to the recommendations from the Independent Commission on Banking, expected to report in September 2011.

Further Information

• About Parliament: Select Committees
• Topics: Financial Institutions